Who will stem the post-earnout drift?

In the last two years or so, founders of two of Creston’s acquired subsidiaries have resigned from the group after their earnout arrangements expired.   It’s not an unusual occurrence in the marketing sector and Creston would doubtless argue – with some justification – that the group has not suffered materially as a result.

A rather different, and more sorry, tale emerged at WFCA when the agency was reversed into a public company (see WFCA loss after clients and staff defect: Morton to inject £1.8m).  After the change in ownership and group management, long-serving media director Bill Jones and various colleagues left to set up their own agency.   WFCA lost quite a lot of business and suffered financially as a result.

Thus the consequences of an unsuccessful transition is often self-evident, but the test of a successful ownership transition is not so easy to define.

Founder Mark Lund left DLKW in 2009 and since then the agency has been sold on to Interpublic to add weight to its Lowe agency in London.  Nick Sparrow founded ICM Research and left the company in 2010 since when new senior personnel have been recruited and the group’s research resources have been brought together under the Creston Insight brand.

Superficially DLKW may have passed its peak in terms of profitability – at least for the time being – and so a sale might have been the correct strategic decision, even though it showed a loss on the original investment outlay (see Creston suffers book loss on DLKW sale to slash borrowings).

Creston’s insight division also lost some momentum after Nick Sparrow and others departed.  But, as the company has pointed out, the market research sector itself declined 2 per cent during that year.  Creston also acknowledged that the change in senior management at ICM was one of several factors that contributed to “a difficult year for the division” (see Research departures make little impact at Creston).

In both cases – and in many, many other comparable situations throughout the industry – it would take time and objective research to determine the long-term consequences of ownership transition.

But it takes no research to identify the fundamental risk arising from earnout-structured acquisitions: the loss of key people after the last payment has been made.  The risk has been referred to here on many previous occasions and extends beyond just the selling shareholders. Many other key employees will also feel less committed to a “people” business where the top people work for a remote parent company and are rarely seen.

Unless acquirers can be bold enough to meet the challenge, by creating or retaining a genuine sense of partnership among key personnel in the particular entity after ownership has been sold, the only alternative is to assume that the former owners will leave and to hope the next tier can be paid enough to stay.  That’s not a very good formula for long-term success and will leave potential investors wary of backing companies in the sector.   No wonder the marcoms companies tend to under-perform on the stock market.

Bob Willott is editor of “Marketing Services Financial Intelligence” at www.fintellect.com